EXAMPLE

PROBLEMS ON
FRANCHISE
ACCOUNTING
CRITERIA CHECK 1
On January 1, 2020, SMB Company authorized SMP Company to operate as a franchise for an
initial franchise fee of 1,000,000. Of this amount, 250,000 was received upon signing the
agreement and balance is represented by promissory note payable in 3 annual installment
beginning December 31, 2020. The collectability of note is reasonably assured.

1. How much is the revenue from franchise?

Solution
To recognized as revenue, criteria must be met:
1. Is the collection of note REASONABLY ASSURED? Yes. As stated in the problem.
2. Is the CASH/DOWNPAYMENT nonrefundable? It is Yes because the problem is silent and since
it is silent we treat that as nonrefundable
3.Is the franchisor performed substantial services? Yes. Because the problem is silent therefore
the franchisor performed substantial services.

REVENUE WILL BE 1,000,000

CRITERIA CHECK 2
On January 1, 2020, SMB Company authorized SMP Company to operate as a franchise for an
initial franchise fee of 1,000,000. Of this amount, 250,000 was received upon signing the
agreement which represents fair measure of the services and balance is represented by
promissory note payable in 3 annual installment beginning December 31, 2020. The
collectability of note is reasonably assured. However, the franchisor has not performed any
material services.

1. How much is the revenue from franchise?

Solution
To recognized as revenue, criteria must be met:
1. Is the collection of note REASONABLY ASSURED? Yes. As stated in the problem.
2. Is the CASH/DOWNPAYMENT nonrefundable? It is Yes because the problem is silent and since
it is silent we treat that as nonrefundable
3.Is the franchisor performed substantial services? No. As stated in the problem.

REVENUE WILL BE 250,000. Why 250,000. Because the CASH DOWN PAYMENT represents fair
measure of services and this is the exception to the general rule. However, if the cash or down
payment does not contain the sentence “fair measure of services” then the revenue will be zero.
 Determination of Net Income 1
Given are the following:
Date of Franchise Agreement=April 30, 2020Net sales=950,000
Initial Franchise Fee=1,200,000
Down payment=400,000 balance is divided into 5 equal installment starting December 1, 2020.
Note Receivable is NON-INTEREST BEARING with 10% implicit rate (use 4 decimal places for PV factor)
Continuing Franchise Fee=5% of net sales
Direct Cost is 540,000 in which 170,000 is attributed to CFF
Indirect Cost is 72,000 in which 18,000 is related to CFF
Collectability of note is NOT REASONABLY ASSURED

1. How much is the net income for the year 2020?

Solution
First step is to determine what particular case is the problem. The note is NON-INTEREST
BEARING and the COLLECTABILITY is NOT REASONABLY ASSURED then it is case 4. So your
formula will be base on case number 4.
Downpayment 400,000
Collection, net of imputed interest* 124,619
Total Collection 524,619
Multiply by: Gross Profit Rate** 63.24%
Realized gross profit 331,769
Add: Interest Income*** 35,381
CFF**** 47,500
Less: Expenses***** (242,000)
Net Income 172,650
 SUPPORTING COMPUTATION
*Collection, net of imputed interest
The PV factor of 10% for 5 periods is 3.7908 it will be multiplied with 160,000 (800,000/5)=606,528 this is PV of the Note
Receivable. Since the collection annually is 160,000, the interest should be deducted. Interest is computed by 606,528
multiply by 10% multiply by 7/12. Why 7/12. Because the agreement is April 30, 2020 and the first installment is on
December 1, 2020, so it is 7 months. The interest will be 35,381. This will part as interest income. So the collection, net of
imputed interest is 160,000 less 35,381=124,619
**Gross Profit Rate
The GP rate is based on adjusted sales value. The DP is 400,000 and the PV of note is 606,528, the adjusted sales value will
be 1,006,528. To compute for the GP that is 1,006,528 less the direct cost of 370,000 (540,000-170,000)=636,528 divided by
the adjusted sales value of 1,006,528 multiply by 100% that will be 63.24%
*** Interest Income
It is computed above
****CFF
That is sales of 950,000 multiply by 5%=47,500
*****Expenses
Total expenses is 242,000. Breakdown is 170,000 direct CFF and 72,000 indirect costs
 Determination of Net Income 2
Given are the following:
Date of Franchise Agreement=April 30, 2020Net sales=950,000
Initial Franchise Fee=1,200,000
Down payment=400,000 balance is divided into 5 equal installment starting December 1, 2020.
Note Receivable is NON-INTEREST BEARING with 10% implicit rate (use 4 decimal places for PV factor)
Continuing Franchise Fee=5% of net sales
Direct Cost is 540,000 in which 170,000 is attributed to CFF
Indirect Cost is 72,000 in which 18,000 is related to CFF
Collectability of note is REASONABLY ASSURED

1. How much is the net income for the year 2020?

Solution
The problem is Case number 3. Note is Non interest bearing but collection is reasonably assured.
Revenue* 1,006,528
Less: Cost (Direct cost of IFF only)** (370,000)
Gross Profit 636,528
Add: Interest Income*** 35,381
CFF**** 47,500
Less: Expenses***** (242,000)
Net Income 477,409
Supporting Computation
* Revenue
Downpayment of 400,000 plus the PV of the note 606,528 (160,000x3,7908)=1,006,528
**Direct Costs
540,000-170,000=340,000. Take note that only direct cost from IFF will be used as cost
***Interest income
See previous problem computation
****CFF
See previous problem computation
*****Expenses
See previous problem computation
 Determination of Net Income 3
Given are the following:
Date of Franchise Agreement=April 30, 2020Net sales=950,000
Initial Franchise Fee=1,200,000
Down payment=400,000 balance is divided into 5 equal installment starting December 1, 2020.
Note Receivable is interest bearing note of 10% annually
Continuing Franchise Fee=5% of net sales
Direct Cost is 540,000 in which 170,000 is attributed to CFF
Indirect Cost is 72,000 in which 18,000 is related to CFF
Collectability of note is REASONABLY ASSURED

1. How much is the net income for the year 2020?

Solution
The problem is Case 1. The note is interest bearing and the collectability is reasonably assured.
Revenue (IFF only)* 1,200,000
Less: Cost (Direct cost of IFF)** (370,000)
Gross Profit 830,000
Add: Interest Income*** 46,667
CFF**** 47,500
Less: Expenses***** (242,000)
Net Income 682,127
Supporting Computation
*Revenue
All the DP and balance shall be the revenue. 400,000 plus 800,000=1,200,000
**Direct Cost
See previous problem
***Interest Income
Since the balance is 800,000, interest is computed by 800,000 multiply by 10% multiply by
7/12=46,667.
****CFF
See previous problem
*****Expenses
See Previous problem
 Determination of Net Income 4
Given are the following:
Date of Franchise Agreement=April 30, 2020Net sales=950,000
Initial Franchise Fee=1,200,000
Down payment=400,000 balance is divided into 5 equal installment starting December 1, 2020.
Note Receivable is interest bearing note of 10% annually
Continuing Franchise Fee=5% of net sales
Direct Cost is 540,000 in which 170,000 is attributed to CFF
Indirect Cost is 72,000 in which 18,000 is related to CFF
Collectability of note is NOT REASONABLY ASSURED

1. How much is the net income for the year 2020?

Solution
The problem is case 2. The note is interest bearing and the collectability is not reasonably assured.
Downpayment 400,000
Collection* 160,000
Total Collection 560,000
Multiply by: Gross Profit rate** 69.17%
Realized Gross Profit 387,352
Add: Interest Income*** 46,667
CFF **** 47,500
Less: Expenses***** (242,000)
Net income 239,519
Supporting Computation
*Collection
800,000 balance divided 5 =160,000
**GP Rate
It is computed by 1,200,000 less direct cost of 370,000 (540,000-170,000) equals 830,000
divided 1,200,000 multiply by 100% equals 69.17%
***Interest Income
Since the balance is 800,000, interest is computed by 800,000 multiply by 10% multiply by 7/12=46,667.
****CFF
See previous problem
*****Expenses
See Previous problem
 END OF DISCUSSION

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